Reverend Ernest is the pastor of a local church. One fine Sunday morning, as the collection plates are passed, a member of his congregation deposits a substantial gift.
Reverend Ernest is the pastor of a local church. One fine Sunday morning, as the collection plates are passed, a member of his congregation deposits a substantial gift. In counting the morning’s tithes later that day, Rev. Ernest finds the gift – a check, payable to the church, for $1 million. “Land o’ Goshen!” he exclaims. Now, the community missions about which the church has long dreamed can become a reality. Rev. Ernest takes a long look outside, giddy with excitement, already devising an addition to the church to house a homeless shelter, soup kitchen, or thrift store to benefit impoverished children.
A few days later, a visitor comes to Rev. Ernest’s office. Far from one of his flock, she is a court-appointed receiver, chasing the assets of the very congregant who delivered the donation. As it turns out, the congregant was the head of a lucrative pyramid scheme and recently pled guilty to fraud and racketeering. She not only knows about the $1 million donation, but demands that it be turned over to her. She even claims that if the gift isn’t returned, she will pursue the church to recover the funds. Rev. Ernest, believing that the funds could be better used by his church, prayerfully considers the receiver’s warning, but does nothing.
One week later, the receiver makes good her threat and files suit, naming the church as a defendant in a fraudulent transfer action. Alarmed, Rev. Ernest calls you – the church’s insurer – to report the receiver’s visit, the lawsuit, and to request coverage and a defense. You consult the church’s policy and immediately have some concerns. You tell Rev. Ernest that “it doesn’t look like there’s coverage”; nevertheless, you agree to defend the church. Months later, however, your initial concerns are supported and you decline further defense. How can this be? This article will address a recent case that examined such a situation. Furthermore, this article will highlight certain aspects of the case that may assist you in providing a defense and protecting your interests.
In World Harvest Church, Inc. v. Guideone Mutual Insurance Company, the Eleventh Circuit Court of Appeals faced the question of whether an insurer validly reserved it rights when such a reservation was not in writing. 586 F.3d 950 (11th Cir. 2009). In that case, the World Harvest Church received several donations, including a $1 million wire from an offshore account, that were the product of an elaborate Ponzi scheme, the front for which was an automobile title lending business. When a court-appointed receiver brought an action against the church to recover those funds, the church approached its insurer to provide a defense. In a telephone call to the church’s counsel, the insurer initially noted that it “didn’t see coverage” but nonetheless retained a law firm to provide a defense; at no time did the insurer issue a written reservation of rights letter for the possible denial of coverage. Following eleven months of discovery and three discovery extensions, the insurer determined that the church’s potential losses were not covered and withdrew the defense. The church retained new counsel; thereafter, the trial court granted the receiver’s motion for summary judgment and entered judgment against the church.
The church then sued the insurer in federal court for breach of insurance contract, breach of the duty to defend, and bad faith. It argued that the insurer was estopped from denying coverage because it never issued a written reservation of rights. The court granted the insurer’s motion for summary judgment and held that the church failed to demonstrate that it had been prejudiced by the insurer’s decision. The church appealed.
The Eleventh Circuit ultimately deferred to the Georgia Supreme Court on two specific questions: 1) does an insurer effectively reserve its right to deny coverage if it indicates it “didn’t see coverage,” after having issued a written reservation in a related case; and 2) when an insurer initially conducts a defense without a reservation of rights, is the insurer estopped from asserting the defense of noncoverage only if the insured demonstrates prejudice.
After reviewing the history of the case, the Georgia Supreme Court noted that the supposed requirement that a reservation of rights be in writing was actually mere commentary by the court and had no support in Georgia law. 287 Ga. 149, 152 (2010). Accordingly, under Georgia law, the argument that a reservation of rights is ineffective solely because it was oral is “without legal authority.” As a result, the court concluded that, while a reservation of rights need not be in writing, it “must fairly inform ‘the insured that, notwithstanding [the insurer’s] defense of the action, it disclaims liability and does not waive the defenses available to it against the insured’” and should “inform the insured of the specific ‘basis for [the insurer’s] reservations about coverage.’” Moreover, the insurer was not rescued by a written reservation of rights issued in a related case. In other words, the reservation should be clear, unequivocal, and specific to the actual case, regardless of how it is communicated to the insured. Therefore, a bald statement that the insurer “didn’t see coverage” was insufficient.
The court next tackled the thorny question of whether an insurer is estopped from later withdrawing a defense in the absence of an initial reservation of rights. The court painstakingly examined decisions from Georgia and other states and identified three different approaches when an insurer initially provides a defense in the absence of a reservation of rights. Specifically, under the different approaches, an insurer cannot withdraw defense of the insured, if it had knowledge of noncoverage, because: 1) prejudice to the insured as a result of the withdrawal is “conclusively presumed”; 2) prejudice to the insured is established as a matter of law by virtue of the withdrawal, without resorting to a presumption; or 3) prejudice has been proven by the insured (or, stated differently, the insured has the burden to prove prejudice, without the benefit of a presumption). The court ultimately aligned itself with the first two approaches and held that “when an insurer assumes and conducts an initial defense without effectively notifying the insured that it is doing so with a reservation of rights, the insurer is deemed estopped from asserting the defense of noncoverage regardless of whether the insured can show prejudice.” (emphasis added).
In sum, the Georgia Supreme Court decision in World Harvest Church reinforces several key points of Georgia law that are noteworthy. First, the decision emphatically confirms that reservations of rights, while not necessary to be in writing, should be in writing and must be clear and unequivocal, fairly informing the insured that the insurer disclaims liability, does not waive any defenses, and identifies the bases for the reservations. Second, the court confirmed that once a defense has been provided, in the absence of a reservation of rights, the insurer cannot later assert the defense of noncoverage, regardless of whether the insured can show prejudice. So, when reviewing a request for coverage or a defense, to the extent possible, the best practice is to identify any possible reasons why coverage may not exist for the claimed loss. Once those issues have been identified, clear communication with the insured should follow. A written reservation of rights is preferable; nevertheless, whether the reservation is made in writing or orally (but particularly if it is made orally), it should be clear and unequivocal. In addition, the reasons for the reservation should be explained. In short, it should be made clear to the insured that a reservation of rights has been issued and the potential exists that her claimed loss may not be covered. By bearing these points in mind, you will be able to issue sound coverage decisions while lessening the potential of litigation against the insurer.